How low can unemployment go?

INDICATOR: April Employment Report/ISM Non-Manufacturing Survey

KEY DATA: Payrolls: 165,000; Private Sector: 176,000; Unemployment Rate: 7.5% (down 0.1 percentage point)/ISM (Non-Manufacturing): 53.1 (down 1.3 points)

IN A NUTSHELL: "A declining unemployment rate is great news but a softening service sector raises questions whether job gains can be strong enough to lower the rate further."

WHAT IT MEANS: There is a saying when it comes to corporate profits that you should under-promise and over-deliver. That is precisely what happened with the April employment data. I warned yesterday that the report could be stronger than expected and it was. Job growth exceeded forecasts, though I was too high. But more importantly, the February and March gains were revised upward by a total of 114,000 jobs. For the past three months, payroll increases have average 212,000, which is quite solid. The details of the report, though, were not that great. Hours worked fell, hourly earnings edged up modestly and weekly earnings were down. That does not bode well for income gains. The breadth of the job increases shrank and the weakness in manufacturing (flat) and construction (down 6,000) was not good news. For those of you who like to see your government slimmer, that happened as well. Solid gains in retail, temporary help, professional services, health care and trucking were positives. The focus on the jobs is critical given the really good news on the unemployment front. The decline in the unemployment rate came for all the right reasons: the labor force increased and employment gains were strong. Job gains have to remain solid if that downward trend is to be maintained.

The outlook for the labor market became a little more clouded as the Institute for Supply Management's April survey of non-manufacturing firms showed slower job increases. They are still occurring, just not as robustly. Indeed, the entire segment of the economy grew less rapidly. The easing was nothing spectacular, just a slow motion easing. Services and construction are still in good shape it is just that it would be nice if they were in great shape.

MARKETS AND FED POLICY IMPLICATIONS: Let's get real here, 165,000 new jobs, even the 176,000 new private sector jobs is good but hardly great. The three-month average is fantastic but the last two months when sequestration and tax increases were expected to kick in were lackluster. Fiscal policy is restraining growth and you don't have to be a Keynesian to understand that. Mr. Bernanke could hardly be accused of being one and he said it. Indeed, job losses in the public sector are likely to increase, which will make it harder to post decent payroll numbers. So let's enjoy these employment data while we can but look to the future cautiously. Of course, the surprise on the upside will undoubtedly bring joy to investors. Not because they point to a strong economy, but they say that earnings can be decent going forward but the economy is not so great that the Fed will change its stance this year. It's the best of all worlds: growing earnings and lots of liquidity. If only that meant more jobs not just higher equity prices.